Public debt and government spending 101
By Jon Fernquest
Simon Johnson and James Kwak have an
important little primer
called National
Debt For Beginners at National Public Radio
in the US.(Also read their Financial Crisis for Beginners).
This primer is worth reading as Thailand is poised to begin a period of increased government spending:
"...borrowing money that
your children will have to pay back is not necessarily a
bad thing; it depends on whether you use it to improve the world they will live
in..."
Or as Peter G. Peterson, founder of the Blackstone Group explains it:
...we've become theological about tax cuts. You know, faith directed, more or less untouched by analysis, history, or evidence. And it's morphed into, "Any tax cut, any time." But a long-term tax cut is not a tax cut at all, unless it's accompanied by long-term spending cuts. It's what you'd call a deferred tax increase on the future, which is our children (Source: Mother Jones interview, 2004).
This sums up the problem with government borrowing to finance large amounts of government spending (public debt).Taxpayers eventually have to pay the money back to investors. Very few governments in modern history have defaulted on their debt.
New Deal is best example
What is the best example of government spending to improve the world that future children live in?The New Deal during the US Great Depression of the 1930s, the biggest government spending programme in US history, would have to be the answer to this question.
An interactive online map at UC Berkeley allows you to take a close look at New Deal projects in the state of California (Look at map). Zoom in on San Francisco (Select Jump to region, Bay Area, San Francisco). You will see that almost every public school and park in San Francisco seems to have been built during the New Deal. San Francisco's two bridges were also built during this period. Before these bridges were built, you had to take a ferry to cross the bay.
(Photo above on right is of St Martin sharing his cloak with someone who doesn't have a cloak, kind of what governments do by taxing the rich and helping the poor (progressive taxation), painting by El Greco, note: author is Buddhist but finds the St Martin interesting, not proseltyzing)
public debt - money
the government has borrowed to pay for spending deficits (this
accumulates each year into a large percentage of GDP)
deficit, budget deficit - when you spend more than you receive (has to be financed or funded by borrowing)
a government deficit - when the government spends more than it receives in taxes and other income
default on public debt - when a government cannot pay back the money they borrowed to investors
Simon Johnson - former chief economist of the International Monetary Fund, is a professor at the MIT Sloan School of Management and a senior fellow at the Peterson Institute for International Economics. He is a co-founder of The Baseline Scenario
James Kwak - is a former McKinsey consultant, a co-founder of Guidewire Software, and currently a student at the Yale Law School. He is a co-founder of The Baseline Scenario.
primer - a book or article that gives you the basic information about a topic
National Public Radio - non-profit radio station in the US with educational programmes (See Wikipedia and website)
poised to begin - just about to begin, will begin shortly
X not necessarily Y - most people think X means Y, but this is not always true
sums up - to make a short description with all the important facts and features
proseltyzing - try to persuade people to share your religious or political beliefs
deficit, budget deficit - when you spend more than you receive (has to be financed or funded by borrowing)
a government deficit - when the government spends more than it receives in taxes and other income
default on public debt - when a government cannot pay back the money they borrowed to investors
Simon Johnson - former chief economist of the International Monetary Fund, is a professor at the MIT Sloan School of Management and a senior fellow at the Peterson Institute for International Economics. He is a co-founder of The Baseline Scenario
James Kwak - is a former McKinsey consultant, a co-founder of Guidewire Software, and currently a student at the Yale Law School. He is a co-founder of The Baseline Scenario.
primer - a book or article that gives you the basic information about a topic
National Public Radio - non-profit radio station in the US with educational programmes (See Wikipedia and website)
poised to begin - just about to begin, will begin shortly
X not necessarily Y - most people think X means Y, but this is not always true
sums up - to make a short description with all the important facts and features
proseltyzing - try to persuade people to share your religious or political beliefs
Fiscal sustainability
Investors who provide money to the government to finance public debt start getting worried when:1. Government debt looks
like it will keep getting bigger (as
a proportion of GDP)
2. Demographic trends look bad (with far more retirees than workers).
3. There seems to be no political appetite to confront the problem.
2. Demographic trends look bad (with far more retirees than workers).
3. There seems to be no political appetite to confront the problem.
If the debt gets too large, the government will eventually face a choice between several unpopular measures — including defaulting on the debt or imposing severe austerity in order to afford the debt payments.
fiscal sustainability -
whether a level of government spending can be continued for a long time
in the future
X as a proportion of Y - X as a percentage of Y
GDP - the growth of all incomes in an economy, defined as C + I + G + (Ex - Im) where C = consumption by households, I = investment by firms, G = government spending, Ex = exports, Im = imports
demographic trends - the direction of increase in population (for example, more older people and less younger people over time)
no political appetite to confront the problem - to make people happy and win votes, they do not solve the problem
defaulting on debt - not paying back money borrowed
austerity - when the government reduces the amount its spends by a large amount, when the condition of the economy is bad and the standard of living falls
imposing severe austerity - when the government budget is reduced by a large amount (which has a negative effect on the economy and living standards)
standard of living - the quality of life (income plays a big part in this, obviously)
annual government deficits - the amount by which spending exceeded tax revenues in a given year
total public debt - the cumulative amount owed by the government (the total of all annual government deficits that haven't been paid back yet)
X as a proportion of Y - X as a percentage of Y
GDP - the growth of all incomes in an economy, defined as C + I + G + (Ex - Im) where C = consumption by households, I = investment by firms, G = government spending, Ex = exports, Im = imports
demographic trends - the direction of increase in population (for example, more older people and less younger people over time)
no political appetite to confront the problem - to make people happy and win votes, they do not solve the problem
defaulting on debt - not paying back money borrowed
austerity - when the government reduces the amount its spends by a large amount, when the condition of the economy is bad and the standard of living falls
imposing severe austerity - when the government budget is reduced by a large amount (which has a negative effect on the economy and living standards)
standard of living - the quality of life (income plays a big part in this, obviously)
annual government deficits - the amount by which spending exceeded tax revenues in a given year
total public debt - the cumulative amount owed by the government (the total of all annual government deficits that haven't been paid back yet)
Some historical facts:
* World War II government
debt reached 122 percent of GDP in 1946. It was paid down without
much negative impact on the economy, thanks to strong demographic and
productivity growth.
* In the 1980s annual government deficits reached 6% of GDP, a post World War II high.
* Deficits began falling in the mid-1980s, and especially after the end of the 1990-91 recession and the beginning of the Clinton administration, but total debt — the cumulative amount owed by the government — kept growing (because even small deficits still add to debt) until it peaked in 1996 at 67 percent of GDP...
* The National Debt Clock in New York City displays the current level of US public debt.
* The 2001 recession, George W. Bush's two major tax cuts, the Iraq War, and of course the current recession have weakened the government's fiscal position.
* Now the Congressional Budget Office is projecting a 2009 deficit in excess of 8 percent of GDP, a new post-World War II high. That's before counting the Obama administration's stimulus plan
* Social Security and Medicare are expected to face funding shortfalls totaling in the trillions of dollars, beginning next decade.
* The International Monetary Fund, which is especially interested in analyzing debt sustainability because it is the institution that will be called in when government debts risk becoming unsustainable.
* Economic studies have found that public debt in emerging market countries the median sustainable debt level at around 30 percent of GDP (although across the sample the estimates range from less than 10 percent to more than 100 percent). (Read IMF academic paper)
* Developed countries in general can sustain higher levels of debt than emerging markets, among other reasons because they have higher government revenue-to-GDP ratios.
* The IMF's September 2003 World Economic Outlook has some charts comparing government debt levels in industrial and emerging-market countries. Industrial countries in aggregate had public debt levels above 70 percent of GDP for most of the 1990s; yet no industrial country has defaulted on its debt in the post-World War II period.
* To-date there has only been a weak relation between the amount of U.S. government debt and the interest rate the Treasury Department has to pay to borrow money. Normally, one would expect the risk of default and the risk premium in the interest rate charged to increase with the total amount borrowed.
* In the 1980s annual government deficits reached 6% of GDP, a post World War II high.
* Deficits began falling in the mid-1980s, and especially after the end of the 1990-91 recession and the beginning of the Clinton administration, but total debt — the cumulative amount owed by the government — kept growing (because even small deficits still add to debt) until it peaked in 1996 at 67 percent of GDP...
* The National Debt Clock in New York City displays the current level of US public debt.
* The 2001 recession, George W. Bush's two major tax cuts, the Iraq War, and of course the current recession have weakened the government's fiscal position.
* Now the Congressional Budget Office is projecting a 2009 deficit in excess of 8 percent of GDP, a new post-World War II high. That's before counting the Obama administration's stimulus plan
* Social Security and Medicare are expected to face funding shortfalls totaling in the trillions of dollars, beginning next decade.
* The International Monetary Fund, which is especially interested in analyzing debt sustainability because it is the institution that will be called in when government debts risk becoming unsustainable.
* Economic studies have found that public debt in emerging market countries the median sustainable debt level at around 30 percent of GDP (although across the sample the estimates range from less than 10 percent to more than 100 percent). (Read IMF academic paper)
* Developed countries in general can sustain higher levels of debt than emerging markets, among other reasons because they have higher government revenue-to-GDP ratios.
* The IMF's September 2003 World Economic Outlook has some charts comparing government debt levels in industrial and emerging-market countries. Industrial countries in aggregate had public debt levels above 70 percent of GDP for most of the 1990s; yet no industrial country has defaulted on its debt in the post-World War II period.
* To-date there has only been a weak relation between the amount of U.S. government debt and the interest rate the Treasury Department has to pay to borrow money. Normally, one would expect the risk of default and the risk premium in the interest rate charged to increase with the total amount borrowed.
demographic - population
productivity growth, higher productivity - workers getting more done in the same amount of time
strong demographic and productivity growth - higher population and workers getting more done in the same amount of time
debt paid down - reduce the amount of money owed
National Debt Clock - a billboard in New York city that displays the current US government debt and the amount that each family in the Us owes (See Wikipedia)
governments' fiscal position - the government's financial situation, the revenues it will receive and the spending it will provide, plus assets and liabilities (balance sheet)
weakened the government's fiscal position -
Congressional Budget Office (CBO) - US government agency that estimates government revenue and provides economic information to the US Congress (See Wikipedia)
Social Security - US government programme providing financial help to people who have lost their job, retired people, disabled people, and health insurance to those in need (See Wikipedia)
Medicare - US government programme providing health insurance to people who are aged 65 and over (See Wikipedia)
funding shortfalls - not being able to get enough money to do what you want to do
sustainable - can continue for a long time in the future
unsustainable - cannot continue for a long time in the future
median - the middle number (used to show what is normal)
median sustainable debt level - of all countries the middle percentage of sustainable debt
government revenue-to-GDP ratios - (See chart on right)
in aggregate - added together
to-date - from the past to now
risk of default - the possibility that a borrower will not be able to pay back the money they borrowed
risk premium - the extra amount charged for the risk
